games Article Gaming the System: An Investigation of Small Business Owners’ Attitudes to Tax Avoidance, Tax Planning, and Tax Evasion Diana Onu 1, Lynne Oats 1 , Erich Kirchler 2 and Andre Julian Hartmann 2,* 1 Business School, University of Exeter, Streatham Court, University of Exeter, Rennes Drive, Exeter EX4 4PU, UK; [email protected] (D.O.); [email protected] (L.O.) 2 Faculty of Psychology, University of Vienna, Universitaetsstrasse 7, 1010 Vienna, Austria; [email protected] * Correspondence: [email protected]; Tel.: +43-1-4277-473-33 Received: 30 August 2019; Accepted: 29 October 2019; Published: 8 November 2019 Abstract: To a large extent, the body of research that looks at individuals’ compliance with the law focuses on the dichotomy between compliance as rule-following and noncompliance as rule-breaking. However, a fascinating case of noncompliance is that where individuals selectively follow existing rules in order to circumvent the legal principle, this behaviour has been termed ‘creative compliance.’ In the current study, we investigated the psychological underpinnings of ‘creative compliance’ by assessing the attitudes of tax avoidance (significant minimisation of tax liability perceived to be legal) and tax evasion (illegal tax minimisation) of 330 owners of small businesses. We found that tax avoidance and tax evasion were perceived as qualitatively distinct by respondents and that they were predicted by different factors. While both tax avoidance and tax evasion were associated with weak personal norms to contribute to the tax system, tax avoidance was associated with a perception that the tax system is unfair, and that tax law has ‘loopholes’ that can be exploited, while tax evasion was predicted by the perception that evasion is a trivial crime. Overall, we provide insight into the under-investigated behaviour of ‘creative compliance’ and propose future research directions. Keywords: tax compliance; tax avoidance; tax evasion; tax planning; creative compliance 1. Introduction During the 17th and 18th centuries, the English crown introduced a variety of new taxes to raise revenue and fund military campaigns. One of the most famous, the ‘window tax,’ was meant to tax subjects based on the size of their properties—size estimated by the number of windows. This measure had rather unintended consequences—many people bricked-up their windows in order to avoid the tax, so much so that bricked up windows is a common architectural feature of the period. From 1766 the tax only included properties with seven or more windows— in the subsequent period, the number of houses in England and Wales with exactly seven windows fell by two thirds [1,2]. Much of academic inquiry into following rules tend to focus on the dichotomy between obeying and breaking the rule, but the example above illustrates the ubiquitous practice of obeying the rule in order to disobey its scope. In this paper, we provide an empirical investigation into this practice of ‘creatively complying’ with the law and the social and psychological factors that underpin it. We attempt to distinguish the behaviours of (1) playing the system (interpreting the rules in one’s favour, i.e., tax avoidance, tax planning) and (2) breaking the rules, in the context of small business owners’ compliance with tax regulations (i.e., tax evasion). Specifically, we look at business owners’ attitudes involved and the social and psychological factors related to these behaviours. Games 2019, 10, 46; doi:10.3390/g10040046 www.mdpi.com/journal/games Games 2019, 10, 46 2 of 17 1.1. The Social Nature of Compliance and the Case of Creative Compliance The present work broadly deals with the way people behave in relation to laws and regulations. A large literature on the topic regards laws as external influences on individuals in society—faced with these external prescriptions, individuals can choose to either follow or defy them [3]. However, particularly in the last few decades, a movement of scholars of sociology, anthropology, psychology, among others, have emphasized the social nature of the legal process [4]. On the one hand, the drafting of laws is influenced by the lobbying of different groups in society as well as the current social practice. On the other hand, the understanding and application of laws or rules is a subjective process where many social inferences are involved (for instance, one’s social class, ethnic group, or their seemingly defiant/apologetic attitude can all play a role). Tax laws and regulations are no exception, as they are subject to be influenced by powerful actors within the field [5], and their application can be influenced by a range of existing social practices [6]. One fascinating illustration of compliance as a social practice is the case of individuals or organisations complying with the ‘legal letter’ with the very purpose of disregarding the principle it is based on. This behaviour has been labelled ‘creative compliance’ [7]. For example, [8] cites the case of UK financial sector companies paying large bonuses in shares to salaried employees in order to avoid employment taxes that were only levied on salary payments. She also recounts the way several organisations avoided the value added tax imposed on domestic fuel used for the heating buildings by selling their boilers (which would remain on-site) to external companies who would then sell the fuel to heat the water back to the organisation. The external company would be able to reclaim the value added tax. Organisations would justify this type of arrangement with a “‘where does it say I can’t do that?’ argument” (p. 231), being ready to demonstrate their complete compliance with existing regulations while at the same time avoiding making payments that would have otherwise been due. 1.2. Creative Compliance with Tax Law: Distinction Between Tax Planning, Tax Avoidance, and Tax Evasion The wider tax literature focuses on a binary distinction regarding tax compliance decisions: compliance and non-compliance. However, it is advisable to consider the nuances between the two extremes to gain a deeper understanding of tax decisions (i.e., ‘creative compliance’: tax planning, tax avoidance). There is no agreed-upon definition of tax avoidance [8–10]. In the following, we review the various approaches, as one of the aims of the study is to empirically investigate the stability of the ‘tax avoidance’ construct. Mostly, tax avoidance is defined as the creative design of the tax statement in a legal way with the aim of income reduction and/or an increase of expenditures [11]. It may seem at first glance that the tax arrangements to reduce the tax burden are only relevant to a small number of taxpayers who possess the resources to employ legal professionals who will help them negotiate tax law. However, for instance, it was cited as the widespread practice of avoiding tax in the UK in the early 1990s for some employees to cease being employed and in turn, perform the same work for their former employer through a limited company, thus avoiding employer and income tax [12]. Despite changes in the law, these practices continued and remain controversial. In most cases above, the legislators or tax authorities have stepped in to stop these means of avoiding tax. However, tackling tax avoidance through challenging it in court, introducing new regulation, and pursuing avoiders for debt is not only costly for the regulator, but it can also have a detrimental effect on taxpayers’ future cooperation due to feelings of unfairness [13,14]. Even when tax avoidance is only relevant to a smaller number of wealthy individuals or corporations, it’s very presence can have a detrimental effect on tax morale [15], as well as wider trust in government and the democratic process [16]. As in reaction, tax authorities try to close those loopholes with new regulations in law, according to [17], this results in a kind of cat-and-mouse legal drafting culture of loophole closing and reopening by creative compliance. By contrast, tax evasion is generally defined as the illegal act to reduce tax burden [18]. Therefore, it seems easy to demarcate illegal evasion from legal avoidance in theory. In reality, these practices are not as clearly separate. As proposed in the Aggressive Tax Planning: Indicators report by the [19], tax loopholes with new regulations in law, according to [17], this results in a kind of cat-and-mouse legal drafting culture of loophole closing and reopening by creative compliance. GamesBy2019 contrast,, 10, 46 tax evasion is generally defined as the illegal act to reduce tax burden 3[18] of 17. Therefore, it seems easy to demarcate illegal evasion from legal avoidance in theory. In reality, these practices are not as clearly separate. As proposed in the Aggressive Tax Planning: Indicators report planning can have different shadings on the compliance/non-compliance continuum depending on by the [19], tax planning can have different shadings on the compliance/non-compliance continuum the aggressiveness of the procedure (see Figure1). Aggressive tax planning is a general term used depending on the aggressiveness of the procedure (see Figure 1). Aggressive tax planning is a general to describe tax avoidance strategies that comply with the letter but not the spirit of the law. More term used to describe tax avoidance strategies that comply with the letter but not the spirit of the law. precisely, the aim of those strategies is to reduce the level of a certain taxable income below the one More precisely, the aim of those strategies is to reduce the level of a certain taxable income below the intended by the legislator [10]. The true rationale of aggressive tax planning is to reduce the effective one intended by the legislator [10]. The true rationale of aggressive tax planning is to reduce the tax rate at any price by exploiting loopholes, weaknesses or ambiguities in the law (i.e., movement of effective tax rate at any price by exploiting loopholes, weaknesses or ambiguities in the law (i.e., funds, construction of fictious or shell companies).